Why the Tax Law Might Make Your Car Payments Go Up

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As the economy slowly recovered from the Great Recession over the past decade, the United States government borrowed trillions of dollars at some of the lowest interest rates on record.

Thanks in part to the recently enacted tax cuts, another borrowing binge is getting underway: This fiscal year, the Treasury Department is expected to bring in $955 billion in bond sales, an 84 percent increase from last year.

The price this time around will probably be steeper — both for the government, and quite possibly for you.

Economists and analysts warn that, as the economy has improved — unemployment is low, wages are rising — the government’s need for more money is likely to push interest rates higher. That will make it more expensive for companies and consumers to get loans and potentially will hurt the economy.

It is a phenomenon that economists call “crowding out.” Large-scale government borrowing sucks up the supply of available funds, driving up financing costs for just about everyone else.

And there are signs it’s already playing out.

The United States, already a giant borrower, will need more money

The tax cuts that President Trump signed into law in December will decrease the amount of money the federal government brings in by an estimated $1.5 trillion by 2027. There are no plans to reduce government spending by that much. In fact, the budget passed last month increases spending by hundreds of billions of dollars.

That means that deficits — the difference between how much money the government collects and how much money it spends — will inevitably grow.

In 2018 alone, the conventional estimates show that the new tax law is expected to expand the deficit by roughly $136 billion. (Some tax-cut supporters argue the deficit won’t be quite so large because lower taxes will stimulate the economy and eventually increase revenues.)

The government has to borrow that money from somebody

During and after the Great Recession, borrowing was easy for the United States government.

Its bonds were considered one of the safest places in the world to stash your money. They were exactly what organizations with cash to safeguard — jittery governments, insurance companies, retirees, hedge funds, banks, mutual funds, pension funds — were looking for.

And because these groups were desperate for safety, they were generally willing to accept low rates of return on their investment. That’s why interest rates were low.

It wasn’t only savers who were buying government bonds. So was the Federal Reserve, as part of its effort to resuscitate the moribund economy. The Fed’s bond buying also helped keep interest rates low.

Now all that is changing.

Because the economy has largely recovered, the Fed is reducing the amount of government bonds that it holds. Corporations, banks and households are spending their money or investing it in riskier assets — with bigger potential payoffs — rather than stockpiling it. And, amid optimism about the economy’s prospects, more consumers and institutions are looking to borrow money themselves, rather than park their cash in safe havens like government bonds.

So the government has fewer places from which to borrow money. In essence, the government is competing with individuals and companies to borrow money from a limited source of lenders.

As a result, interest rates rise on government debt

Intensifying competition for investment funds is good news for savers and other lenders who can demand higher interest rates.

But it’s bad news for borrowers who have to pay those higher rates.

The process is now playing out in some normally sleepy corners of the world’s financial markets, such as those for short-term debt, known as the money markets.

This year, the Treasury is expected to borrow more than $490 billion in the short-term debt markets. That’s more than three times the amount it borrowed last year, according to estimates from Deutsche Bank.

But there is only so much appetite to buy this short-term debt. As a result, interest rates are rising. The yield on the benchmark three-month Treasury bill, for example, has more than doubled over the past year to over 1.7 percent, according to Bloomberg data.

That has led to higher interest rates for corporate borrowers — and ultimately for people financing purchases

You probably don’t give much thought to the yield on the three-month Treasury bill. But it serves as the basis for a range of other interest rates, including rates on a type of short-term corporate debt called commercial paper.

Companies — including the finance arms of carmakers like Toyota and Ford — can borrow billions of dollars by issuing such debt, which are part of a mix of funds they use for loans to customers and car dealerships.

It now costs a relatively low-risk company about 1.9 percent to borrow money using commercial paper that matures in 90 days, up from less than 1.6 percent at the start of the year, according to Bloomberg data.

That increase makes it more expensive for the companies to operate. And it’s at least part of the reason interest rates for new cars, trucks and S.U.V.s have been ticking higher. In February, they rose above 5 percent, their highest level in eight years.

Granted, a car loan with a 5 percent rate isn’t terribly expensive by historical standards. But rising rates make it harder for people to afford cars.

Roughly 80 percent of all new vehicles are financed with loans or leases in the United States. As a result, the higher interest rates could put a damper on auto sales — and thus on the broader economy.

“A lot of consumers are having to eat the cost in the form of higher down payments or higher monthly payments,” said Jessica Caldwell, an analyst at Edmunds.com, an automotive research firm.

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